Here’s this week’s sentiment overview:
The AAII survey of retail US investors is little changed from last week with 44% bulls and 29% bears. The bull ratio is therefore also relatively unchanged at 60% and just a tad above its very long term average (58%). We are seeing a somewhat renewed optimism from the middle of March when the bullish camp fell to 28.5%. But it is only a mild optimism that equities will be higher in the next 6 months.
As well, the AAII asset allocation report shows a slight decrease in equities (to 61%) and a surprising increase in bonds (to 21% from 17%) and cash remained relatively unchanged at 18%. The equity allocation is somewhat high but shy of the extremes that accompanied the 2000 and 2007 market tops.
The big news this week was the extreme move in the sentiment observed from newsletter editors. According to ChartCraft, the keepers of the Investors Intelligence sentiment survey, it is difficult to find a bear among these supposedly more savvy market prognosticators. This week’s II numbers show a dramatic decline in bears to 15.7% and an increase in bulls to 57%.
This week’s percentage decline in bears is one of the larges single weekly changes in the history of this sentiment metric. It also brings the nominal level of bears down to historical lows. At the same time, it must be noted that the decline in bears is much more intense than the increase in bulls. That is, this week the sentiment picture for the Investors Intelligence shifted much more because of the decline in pessimism than an increase in optimism.
Such historic extremes aside, we don’t have to go very far back to find less bears. For the last week of 2009, the II bears were 15.6%, just a hair’s width less than this week. On a relative basis, the II sentiment is about as lopsided as it was back on June 18th 2003. Back then there were 3.74 bulls for every 1 bear. Normally, I look for a reading of 3:1 as a bullish extreme but this week we have 3.65 bulls for every 1 bear!
Needless to say, historically such a development has been bad for the equity market. According to analysis from Bespoke, when bearish sentiment drops by 30% (or more) returns for the stock market going forward one month are positive but poor (0.1%). A similar analysis from SentimenTrader focusing on low bearish readings in the past 20 years shows that after the lowest bearish readings the next month has averaged -2.1% (compared to 0.9% otherwise). The poor returns also persist for another month forward.
NAAIM Survey of Manager Sentiment
Active money managers polled by the NAAIM survey this week put their risk hats on with an average 81% of portfolios long the market. They had quickly reduced exposure (to 51%) in March as the equity market corrected. The median measure was almost the same, at 80%.
To be fair, this sentiment measure is not showing an excessive level of optimism since the median had reached 97% in late February. But if the market is able to continue to recover from the correction as smartly as it has done so far, I wouldn’t be surprised to see this repeated.
As well, I notice that the previous major correction in May 2010, while being more slightly more serious than the light one we just experienced, managed to spook these money managers much more. Back then they reduced their exposure from 95% to 27.5% over 8 weeks. This time, they reduced it from 95% to 50% in 5 weeks.
TrimTabs Hedge Fund Survey
The latest TrimTabs/BarclayHedge survey of hedge fund managers shows that they are continuing to take a skeptical “wait and see” approach to the equity market. The results of the survey are mainly bearish across the board actually. Starting with the equity market, only 28% were bullish in March – this is slightly more than in February but much less than 46% in December 2010.
The survey’s sentiment towards US 10 year Treasury bonds has ameliorates slightly but there are still predominantly bears (33%) compared to (16.4%) bulls. The last time that bond bulls outnumbered their bearish counterparts was back in August 2010.
Finally, hedge fund managers are continuing to hold the dollar in poor regard with 43% believing it will continue to fall 22% expecting it to rise. The majority prefer the Canadian dollar to the greenback.
But while they are not snorting bulls, since they have been showered with fresh funds, managers are not shy about putting that fire power to work. February was one of the heaviest monthly inflows and on average, hedge funds are increasing their leverage with margin debt now at its highest level since July 2008.
While the Rydex traders are ignoring gold for the most part, they are piling into equities at an alarming rate. The Rydex family of funds and ETFs allows for traders to take either long or short positions. Currently, the crowd is leaning into long funds relative to short funds. This true for normal funds as well as leveraged funds.
Also we can see the same effect within the Rydex leveraged ETFs. Here’s a chart of the Rydex 2x S&P 500 index ETF relative to the leveraged inverse ETF:
The last time we saw retail investors take a similarly lopsided posture was in late Janurary to early February of this year (Rydex Leveraged ETF Ratio: A Market Top In Sight). This was an early warning sign of the impending correction in March. As with this previous signal, it may take a little while for the market to react but historically, the result of such excitement on the part of the retail crowd for the long side is ominous.
Retail mutual fund investors returned to their normal routine of socking away cash into equity and bond mutual funds. But it wasn’t enough to prevent March from having the largest net withdrawal since December 2010. According to data for the past week from ICI US retail investors added $345 million to domestic equity funds, reversing the previous week’s multi-billion withdrawals. Data from Lipper FMI for the same time period has inflows of $0.5 billion.
Foreign equity mutual funds are continuing to attract new funds as well. According to ICI retail US investors added $900 million this past week compared to $1.4 billion estimate from Lipper FMI.
After a short lived rough patch in late 2010 and early 2011, bond funds are once again the darlings of retail investors. This week, taxable bond funds received net inflows of $3.6 billion according to ICI and $4.13 according to Lipper FMI. Municipal bond funds however are a continuing trouble spot. After a tumultous few months, it had seemed that things were returning to normal in this sector but the recent downgrade of Dekalb County (California) by Standard and Poor’s sent the market reeling again. The result was a new round of selling.
According to ICI investors withdrew $465 million from municipal bond funds. Lipper FMI reports a much higher net withdrawal of $1.15 billion for the past week.
Finally, turning to option sentiment data for this week, the S&P 100 Index (OEX) put call ratio is once again dominated by put activity. The last time we saw this was in late February to early March (see previous sentiment commentary). Prior to that, a similar scenario unfolded in the summer of 2007.
Since this market is usually the playground of institutional traders, their exposure is not taken as a contrarian measure. Historically, when they are leaning heavily into puts as they are now, the market has provided poor returns going forward. There were ample signals in July 2007 of this and while some may say that this came much too early to be useful, you have to remember that the October 2007 top was only a tiny bit above the July 2007 top. So this option sentiment signal coincided with the first peak of a double top.
Markets by definition rarely repeat but what we may be seeing is a similar pattern as the S&P 100 once again climbs back up to its levels February levels and once again we see a resurgence of put activity from OEX option traders. The OEX open interest put call ratio has also bounced back but it is still below (1.62) the peak it reached in mid March (1.78).
The other option measures are showing elevated levels of optimism but not extremely so. For example, the CBOE equity only put call ratio () closed the week at 0.56. This is approximately where it was in late February, just before the market correction. But it is significantly less concern than was shown in early February 2011 and January 2011 as well as May 2010.
The 10 day moving average of the ISE Sentiment index (equity only) call put ratio closed the week at 218 or expressed as a put call ratio, at 0.46. On Thurdsay, the daily ISE reached 302, one of the highest levels of call buying in its history.